Friday, March 26, 2010

Too big to fail ... and worse

Dear Colleagues

It is now common to hear discussions about various organizations, mainly in the financial sector, being too big to fail. As a practical matter the issue of too big to fail is only one aspect of a way bigger problem ... big causes a problem when there is a failure because there is concern about a ripple effect and the failure of the (banking) system as a whole. Actually ripple effect should in this circumstance be modified to read tsunami effect!

But there is a bigger and quieter problem. Concentration of economic power means that markets do not work efficiently ... instead the market starts to be a place where those with economic power are able to game the system, and when this happens there are lots of losers, most of whom cannot fight back.

Very big is celebrated by those that do the business valuations that drive stock market movements ... and as long as corporate profit and stock market valuation are dominant metrics of economic performance ... big is going to be the focus of corporate business behavior.

Big has advantages ... being a big multi-national facilitates making product in low cost areas and selling in high price areas and growing profits, and this grows stock market valuation. What it does to socio-economic value is not part of the equation. Something that is not measured might as well not exist!

What is wrong with this? Answer ... a whole lot! The situation is an economic train-wreck in progress and a long way from over!

Many multi-national corporations have become bigger than many national economies ... but they really do not exist anywhere except as a legal fiction that morphs depending on what suits the corporate agenda at any time and place. The description "multi-national" no longer is a good name for these corporate behemoths ... they are really supra-national ... with no real citizenship and a home location that makes it possible to report the maximum of profit. These supra-national monsters do not need a corporate conscience ... it gets in the way.

Society needs to address this problem in a smart and meaningful way. The problem is getting bigger all the time, and will stay getting bigger until there are some fundamental changes in the way the metrics are done. It will take a long time to change the way corporate profit reporting is done. In any event, corporate reporting is only about money revenues and costs and profit ... while society has much more comprehensive interests. Profit may be maximized by moving jobs to low wage areas ... but is there anywhere that social costs of these disruptions reported? For all practical purposes they are ignored.

The best outcome for society is frequently at odds with the optimum business model for profit maximization. In general these relationships are quite complex, and difficult to legislate or to achieve through regulation. But there can be a reasonable outcome to these complex questions when there is reporting both from the corporate perspective about profit and from the community perspective about value ... this is a market based solution that works ... but it only works if the data are sufficiently complete and both profit and value reporting are widely communicated.

While it is difficult to predict the outcome of market based solutions ... value reporting from a community focus will likely result in more favorable prospects for small and medium scale enterprise than in a system where the only metric is the corporate profit. Community scale business brings local value into play in a way that the supra-national company rarely does ... even though the supra-national looks good using conventional money profit accounting.

Initiatives like www.moveyourmoney.org are sending a message that people like the idea of moving from the supra-national banking sector banks to community banks. The same sort of message has to be brought to bear on all the products that come from supra-national supra-sized enterprises unless they are able to show that their value proposition is on a par or better than local scale business.

The discussion in the USA about regulating the "too big to fail" banking sector is only the tip of the problem. Regulation is a weak response to the problem ... rather a fundamental revamp of the way the metrics are done needs to get done.

About Me

Read engineering and economics at Cambridge ... qualified as a Chartered Accountant ... professional and corporate management working on management information and metrics of performance. International assignments as CFO and then as consultant to World Bank and UN agencies in connection with development projects and emergency situations. Work on planning at the national, area, sector and community level. Appalled at the current state of financial reporting in the corporate world and the metrics that drive major decisions in both the corporate and political sphere! The development of Community Analytics (CA) is a response to the need for better metrics than merely money accounting ... the concept of value should be treated with equal rigor and sophistication!